ACCT 209 1nd Edition Lecture 6 Outline of Last Lecture I The Accounting Cycle II Closing Entries III Financial Statements IV Using the Financial Statements Outline of Current Lecture V Types of companies VI Inventory systems VII Purchasing Inventory a Example VIII Calculating Costs of goods sold a Example IX Inventory Cost Flow methods Current Lecture Chapters 5 and 6 MERCHANDISING TRANSACTIONS AND INVENTORIES Merchandising companies Purchase goods for resale Ex Walmart and Amazon Service companies Do something Ex Lawn car dry cleaners doctor Manufacturing companies Use raw materials and other resources to create new products for sale to customers Ex Dell and Adidas Operating cycle of a merchandising company Buy Merchandise Might pay now or later Sell Merchandise Collect cash from customer Periodic vs Perpetual Inventory Systems These notes represent a detailed interpretation of the professor s lecture GradeBuddy is best used as a supplement to your own notes not as a substitute Periodic method inventory account balance is updated and the amount of expense is determined at end of accounting period Use adjustment process at end of the year to update inventory Perpetual method inventory account balance and amount of expense is calculated continuously throughout the accounting period More expensive because it requires more extensive record keeping Also offers better control of supply NOTE This semester students will be responsible for calculations using the periodic system only but should understand basic differences between two systems Purchasing inventory Initially recorded as an asset Inventory or Merchandise inventory Inventory Recorded at cost incurred to get the asset in the location and condition required for use This means that the cost includes purchase price taxes tariffs shipping costs assembly modified costs and insurance while in transit Credit terms Offered by seller to encourage prompt payment Ex 2 10 n 30 Means there is a 2 discount if paid in 10 days and the full amount or Net amount is due in 30 days Freight charges Transportation in FOB shipping point Buyer pays shipping FOB destination Seller pays shipping FOB Free on Board In general The party that pays freight has the title to the goods Example Purchasing inventory A Sunshine Furniture Company sells patio furniture Sunshine recently purchased 10 patio tables from Picnic Manufacturing Company at a cost of 75 per table Sunshine also paid 50 in shipping costs to have the tables shipped to its store and another 120 to have the tables assembled How much should Sunshine record as the cost of the patio tables 10 75 50 120 920 b Sunshine purchased the tables on account from Picnic Manufacturing Sunshine received the invoice from Picnic on March 29 The invoice amount was 750 for merchandise credit terms noted on the invoice were 1 10 n 30 Picnic Company prepaid the freight charges and added that amount to the invoice Note Discount does not apply to freight costs Note Total invoice 750 50 800 If Sunshine pays on April 5 what is the amount of the payment 750 01 750 50 792 50 If Sunshine pays on April 26 what is the amount of the payment The total amount 800 c Assume Picnic Manufacturing shipped the tables from its warehouse in Oregon to Sunshine s store in Bryan the terms of the sale indicate that the tables are being shipped FOB shipping point Oregon The tables leave Picnic s warehouse on March 30 and arrive in Bryan on April 3 Should the tables be included in inventory when Sunshine Company prepares its March 31 balance sheet Why Yes the title passes when the party begins to pay shipping Sunshine pays freight so they own the tables on March 30 Inventory and the matching principle Inventory is an asset until it is used to generate revenue that is when sold Inventory becomes an expense called Cost of Goods Sold or Cost of Sales when it is sold Calculating Cost of goods sold Beginning inventory Net purchases and Freight Important Goods available for sale Ending inventory Asset on Balance sheet Cost of goods sold An expense on Income sheet Example problem 2 Income Statement for a merchandising company SES Company has the following account balances as of December 31 X6 Purchase returns and allowances 20 Inventory January 1 200 Sales 400 Freight In 50 Sales returns and allowances 25 Purchase discounts 5 Inventory December 31 190 Purchases 150 Sales Discounts 10 Selling and administrative costs 45 Freight out 10 General expenses 12 Required Determine the gross profit and net income of SES Company Sales Gross Sales discounts Sales returns and allowances 400 10 25 Net Sales 365 Revenue Cost of Goods Sold Beginning Inventory Purchases Gross Purchase discounts Purchase returns and allowances Freight in 200 150 5 20 50 Cost of Goods available for sale Ending Inventory 375 190 Cost of goods sold 185 Net cost of Inventory purchased 175 Gross profit Net sales Cost of goods sold 180 Gross Profit Selling and Administration costs Freight out Other expenses 180 45 10 12 Net Income 113 Operating Expenses INVENTORY COST FLOW METHODS Cost of inventory must be allocated between units sold during period expense and units left on hand at end of period asset Problem Counting the number of items on hand at the end of the period is easy Sometimes though the same item purchased at different times will have a different cost So how do we assign a dollar cost to the units left in inventory and a dollar cost to the units sold during the period Solution inventory cost flow methods 1 Specific ID method Only used when each item can be uniquely identified 2 Weighted average method Assume all units have the same average costs 3 FIFO First in First out Assumes that goods are sold in the same order as purchased 4 LIFO Last in Frist out Assumes that goods are sold in the reverse order as purchased NOTE The cost flow method chosen does not have to match the company s physical flow of goods Sometimes it can be impossible to match